UK: UK Landlords Prepare For Minimum Energy Performance Standards Of Buildings

Last Updated: 14 November 2014
Article by Chris Papanicolaou

In September 2014, the UK government closed its consultation on the introduction of minimum energy performance standards ("MEPS") for domestic and nondomestic lettings in the private sector in England and Wales. The proposed MEPS rules are the next logical step in the continued drive to force the property industry to improve the energy efficiency of buildings and so reduce the UK's carbon emissions. Landlords of nondomestic (i.e., commercial) property will be required to take steps to ensure buildings they let achieve the minimum standards to be set.

The consultation document fails to provide the text of the proposed new regulations that will be introduced under the Energy Act 2011. That said, it seems clear that actual improvements to the energy efficiency of the least efficient buildings—that is, those with an Energy Performance Certificate ("EPC") rating of "E" or lower—will need to take place beginning in April 2018. The consultation suggests that, subject to certain exemptions, this restriction will apply to any new lettings from that date (the so-called "soft" start date), while existing lettings will fall within the restrictions from the "hard" start date of April 1, 2023 (but with an earlier hard start date of April 1, 2020 for domestic, i.e. residential, lettings). In essence, action will need to be taken not just prior to the grant of new lettings but on existing ones in place on those dates. It is therefore important to consider the risk of letting "F" and "G" rated premises whose term will still be running on the hard start dates.

Enforcement of the regime will rest with the local trading standards offices, as is the case for enforcement of the EPC regime, but without the certainty that failure to enforce within the EPC six-month time limit will mean no further action can be taken. Once a transgression of the rules is established, an enforcement officer can require a landlord to pay a penalty that will be subject to a minimum cap and a maximum cap currently proposed at £5,000 for the domestic market. A different approach is being considered for the nondomestic sector with the possibility of a penalty being linked to the level of rent reserved. In addition, an energy efficiency improvement notice could be served requiring action within the next six months, with the risk of further enforcement action for failure to comply.

It is also apparent that the "E" rating trigger will rise over time to a higher standard, but no clarity is offered in the consultation as to when this will be or as to the eventual rating required. That said, an "A" rating for all buildings by 2050 is discussed. Landlords will now need to pay greater attention to EPC ratings in view of the penalty and cost implications.

Landlords may not have to carry out improvement works where to do so would mean incurring expenditure that would otherwise fail the UK government's Green Deal funding mechanism's "golden rule" test (i.e., the total energy savings are outweighed by the costs) or would result in a net material decrease in the property's value. A compliance exemption is also offered where a third-party consent is needed to do the works and that consent is not forthcoming, "through no fault of the landlord" despite having used "best endeavors." This in itself is an onerous test to meet. The suggestion is that any exemption would be limited to a maximum of five years and then the need for improvements will have to be reassessed. If a consent was refused from the occupational tenant itself, then it is proposed that the exemption will last only until that tenant moves out.

As a further concession, it is proposed that a landlord will not have to carry out the improvement works if it cannot raise the up-front costs through the government's Green Deal funding mechanism or, in the case of domestic property, both under that initiative and/or under any available grant funding. If it can do so, then the landlord will have to do the works but will not have to use either funding mechanism. Wherever a landlord does claim an exemption, it will need to keep an audit trail of the reasons and be prepared to produce them to any enforcement officer.

Where a building is let on a shell and core basis, it will be necessary to ensure that the works are done to ensure build-out works are undertaken to meet the MEPS. Most typically, this will be covered by the agreement for lease, and the obligation to do the works could be placed on the tenant under the agreement, but ultimately it will be for the landlord to ensure such works are done. Care should be taken that tenant alterations are not made during the course of the lease that would alter the EPC rating below the MEPS. Landlords are already updating their lease precedents to cover these points as well to address any unintended consequences on the usual rent review clauses. In particular, care should be taken in drafting such clauses to militate against the risk of a tenant taking an unfair advantage on any rent review, claiming that it should have a discount because a letting of a property with an EPC asset rating below the permitted MEPS is unlawful. One can see the argument potentially being raised where the hypothetical lease assumes a shell and core letting that could mean a below-MEPS rating at grant, where after the anticipated build-out (in practice paid for by the landlord) would ensure a compliant rating.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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